Cap-and-Trade versus Baseline-and-Credit Emission Trading Plans: Experimental Evidence Under Variable Output Capacity

Neil Buckley, Andrew Muller and Stuart Mestelman

McMaster Experimental Economics Laboratory Publications from McMaster University

Abstract: Two approaches to emissions trading are cap-and-trade, in which an aggregate cap on emissions is distributed in the form of allowance permits, and baseline-and-credit, in which firms earn emission reduction credits for emissions below their baselines. Theoretical considerations suggest the long-run equilibria of the two plans will differ if baselines are proportional to output, because a variable baseline is equivalent to an output subsidy. As a first step towards testing the full long-run model, this paper reports on a laboratory experiment designed to test the prediction under fixed emission rates and variable output capacity. A computerized environment has been created in which subjects representing firms choose output capacities under fixed emission technology and participate in markets for emission rights and for output. Demand for output is simulated. All decisions are tracked through a double-entry bookkeeping system. Our evidence supports the theoretical prediction that aggregate output and emissions are significantly greater under a baseline-and-credit trading plan than under a comparable cap-and-trade plan.

JEL-codes: C92 L50 Q58 (search for similar items in EconPapers)
Pages: 30 pages
Date: 2004-06
New Economics Papers: this item is included in nep-exp
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